Is the board of directors sustainability ready?

Today, sustainability is one of the most important considerations for the board of directors and CEOs. Investors also have started to realize the importance of sustainability and how ESG factors directly affect long-term profitability.

It is also true that the people holding the helm of the corporates, the board of directors are holding the organizations back with obsolete emphasis on short-term gains maximization.

Quotes from the Harvard Business Review and the Boston Consulting Group on sustainability governance:

A 2019 PwC survey of more than 700 public-company directors found that 56% thought boards were spending too much time on sustainability. Some of the myopia can be traced to a lack of diversity on boards.

They cannot elevate corporate purpose because they have a fiduciary duty to put shareholders’ interests above all others. Setting aside the growing evidence that superior performance on material ESG issues leads to superior financial performance, it is simply not true that shareholders must come first. Shareholders are obviously important, but other stakeholders—such as employees, customers, and suppliers—are also crucial to a company’s long-term prospects.

To dispel directors’ misconceptions, we recently gathered legal memos on fiduciary duty from all G20 countries and 14 others. None offered an endorsement of shareholder primacy. This was true even in the United States. For example, a memo issued by Wachtell, Lipton, Rosen & Katz stated: “A corporation ignores environmental and social challenges at its own peril. Corporate boards are obligated to identify and address these risks as part of their essential fiduciary duty to protect the long-term value of the corporation itself.”

“It’s just about unanimous: some 91% of directors think their boards should devote more time to strategic aspects of environmental, social, and governance (ESG) issues according to a recent survey by BCG and the INSEAD Corporate Governance Centre. The survey finding reflects a recognition that boards can add the most value to their mission of stewarding the company over the long term by ensuring that sustainability is integrated into the corporate strategy. Yet more than half (53%) of those same directors say their boards are not doing this effectively”.

“However, the long-term strategic thinking required for a true sustainability transformation is often blocked by traditional mindsets and failing to understand sustainability as source of advantage”.

The rapid change in the market condition, the customer needs and expectations, and the technology change have to be part of the strategic consideration of the board to steer the organization to sustainable business. This requires a change in the board’s approach and thought process and they have to look through a different lens that is based on the forward-looking view of these changes and how the changes can pose new risks and opportunities. The board needs to have more cognitive diversity and board members who are comfortable with change and uncertainty. The board should be able to challenge the fundamentals of the business model of today. There is a significant gap in the current board members to be suitable for this sustainable world. The board has to focus on governance related to sustainability and the assessment of sustainability-related effects on corporate strategy.

Another significant aspect that the board has to consider and practice is to work with an eco-system of service providers, government, competitors, vendors and regulators.

According to EY, “Under its sustainable corporate governance initiative, the European Commission is due to publish proposals for improving the EU regulatory framework on company law and corporate governance, to enable companies to focus on long-term sustainable value creation going forward. Among the important issues being considered as part of these proposals is whether directors’ duties of care should be clarified so that they are required to act in the best interests of the company by pursuing long-term value creation and managing sustainability risks”.

In a study by Francesco Napoli, “Our predictions were tested by taking a sample of 53 firms that were quoted on the Italian stock exchange in Milan and looking at their end-of-year reports (Sustainability Reports/non-financial declaration) for a period of 5 years, for a total of 265 firm-year observations. Sampled firms were also asked for data on the costs they faced in implementing ERP digital technologies. The results of our analysis:

• Support Hypothesis 1, meaning that firms that increase the independence of their boards present a better environmental performance.
• Do not support Hypothesis 2, meaning no direct and positive relationship exists between the use of ERP systems and the firm’s green performance.
• Support Hypothesis 3, according to which the growing use of ERP systems is only linked to an improvement in environmental performance in those firms where the presence of independent directors on the board is also growing. This improvement in environmental performance is in addition to the impact brought about by the board’s greater independence (considered alone as in for the verification of Hypothesis 1).

As per the Corporate Governance Institute, there is a sustainability checklist for the board of directors. The main points are as follows:

• Needs and goals
• Board’s oversight
• Board’s expertise
• Sustainability related risk management
• Stakeholder engagement
• Transparency and reporting
• Environmental impact assessment
• Supply chain sustainability
• Resource efficiency
• Renewable energy
• Product lifecycle assessment
• Diversity and inclusion in the board
• Employee well-being
• Community engagement

We found in a panel discussion of the experienced board of directors by IFAC's Professional Accountants in Business (PAIB) Advisory Group the following learnings:

• Incorporating Sustainability and ESG into Purpose and Strategy is not a Separate exercise
• Aligning sustainability and ESG priorities throughout the organization can be a Challenge
• Aligning incentives and remuneration of board and key management persons with sustainability and ESG objectives
• Focusing on sustainability and ESG KPIs
• Ensuring an Appropriate Oversight Structure of the Board
  • Oversight by the full board
  • Establishment of a dedicated sustainability committee
  • Incorporating sustainability into the mandates of existing committees
• Expanding roles of audit committees into sustainability audit
• All board members must be well-versed and competent in ESG matters
• Professional accountancy organizations to bring in sustainability and ESG-related aspects

One of the major problems of sustainability and ESG is data. As per Bohlin,

“Companies’ sustainability data tends to be spread out across multiple systems and organisations. Furthermore, the evolving complexities of ESG data management make it clear that general-purpose software is no longer a viable option. In this space, innovation is key, with solutions that combine both leading tech and human expertise.”

Anne Huang, head of ESG at Dun & Bradstreet International, also highlighted data as a major challenge within sustainability reporting processes, notably the systems built to collect that data. Huang said,

“Companies took decades to build up a management system to collect financial data, and now they need to collect a lot more non-financial data (which some are hard to quantify), that will require new systems, processes, and a governance structure to be put in place. At the same time, these sustainability reports are under increasing public scrutiny and higher audit and assurance standards.” 

“Businesses are desperately in need of ways to improve their ESG data. In fact, just 8% of UK businesses are completely satisfied with the quality of their data, according to a report from SAP.” 

“The lack of access to quality ESG data directly correlates with another of the core challenges firms are facing with their sustainability reporting, which is measuring the impact of supply chains. That same report from SAP found that 40% of UK businesses rely solely upon assumptions and estimates to screen their supply chains. Jamieson warned this leaves them “vulnerable to accusations of greenwashing and unable to substantiate their eco-credentials.”

- https://fintech.global/2023/07/13/how-can-technology-help-firms-improve-sustainability-reporting/

The pandemic and other current economic crises are pushing a lot of organizations to look at Sustainability to meet their expected ROI. Many of the board of directors and key management persons are not able to realize the benefits of sustainability and thus they are not keen on supporting Sustainability and ESG initiatives and reporting. Many see focusing on sustainability as a cost and thus definitely not their priority.

Sustainability reporting can help by giving a lot of business insights that help in better decision making, help in investing in areas that have long-term benefits and long-term cost optimization through increased efficiency, efficient use of resources and reduction of supply chain risk, practicing circularity principles and thus improving business performance.

Collaboration and building an eco-system of partners across the upstream and downstream supply chain, on the exchange of sustainability data helps in building better environment-friendly products and services, thus bringing a competitive edge.

Information technology (IT) plays a significant role in helping the board of directors to enhance and support their sustainability and ESG goals. Sustainability reporting and IT solutions will evolve to become more efficient and effective.

Every business process is IT-enabled. These now need to be re-architected to capture the sustainability-related data and thus help in data capture and collection as this is the biggest challenge today in ESG and sustainability reporting. Organizations need to invest in IT for better data management and reporting.

The board of directors that integrates sustainability in the strategy, sets OKRs for sustainability and ESG, collects and analyses Scope 3 emissions (supply chain) and uses IT for accurate and efficient data collection are the ones who will be better prepared for the new market and also comply with regulations. Sustainable IT is a way to achieve sustainable business.

Credible, accurate, crisp data can enable the organization to provide realistic Sustainability and ESG reports and avoid greenwashing. This also helps organizations to quickly take steps to keep improving and withstand the Audits of 3^rd Party Assurance Agencies. Today’s customers and employees are also becoming more aware of Sustainability and that their Product and Service Providers can help them to be Sustainable by providing Sustainable Products and Services. This is becoming an important criterion for product and service provider selection and also for talent acquisition.

Thus, sustainability and ESG and the use of IT for efficient and accurate sustainability and ESG data is becoming a strategic priority for the business to stay ahead in the race and continue to grow. 

We can understand now how sustainability and the use of IT in sustainability and ESG needs to be the most important priority of the Board of Directors and the CEO. This requires to start with Awareness as the awareness is very low. The next step is Consciousness through the assessment of the current state and finally the enablement through the execution of the changes to be brought in. The Board of Directors needs to be knowledgeable on sustainability and ESG and tech-savvy to champion the use of IT in the journey of sustainability and ESG.

This article is also published on Xellentro. illuminem Voices is a democratic space presenting the thoughts and opinions of leading Sustainability & Energy writers, their opinions do not necessarily represent those of illuminem.